Sonic Automotive, Inc.

Good morning, and welcome to the Sonic Automotive third quarter 2022 earnings conference call. This conference call is being recorded today, Thursday, October 27, 2022. Presentation materials, which accompany management's discussion on the conference call, can be accessed at the company's website at ir.sonicautomotive.com. At this time, I would like to refer to the Safe Harbor Statement under the Private Securities and Litigation Reform Act of 1995. During this conference call, management may discuss financial projections, information, or expectations about the company's products or market or otherwise make statements about the future. Such statements are forward-looking and subject to a number of risks and uncertainties that could cause actual results to differ materially from the statements made. These risks and uncertainties are detailed in the company's findings from the Securities and Exchange Commission. In addition, management may discuss certain non-GAAP financial measures as defined in the Securities and Exchange Commission. Please refer to the non-GAAP reconciliation tables and the company's current record on Form 8K filed with the Securities and Exchange Commission earlier today. I would now like to introduce Mr. David Smith, Chairman and Chief Executive Officer of Sonic Automotive. Mr. Smith, you may begin your conference.

Thank you very much, and good morning, everyone. Welcome to Sonic Automotive's third quarter 2022 earnings call. As she said, I'm David Smith, the company's chairman and CEO. Joining me on today's call is our president, Mr. Jeff Dyke, our CFO, Mr. Heath Bird, our Echo Park chief operating officer, Mr. Tim Keene, our chief digital retail officer, Mr. Steve Whitman, and our Vice President of Investor Relations, Mr. Danny Weiland. I'd like to begin by sincerely thanking all of our amazing teammates, customers, manufacturer, and vendor partners for helping Sonic Automotive achieve another period of record-breaking financial performance, including record third quarter revenues, gross profit, net income, and earnings per share. Highlights from our quarterly results include record third quarter revenues of $3.4 billion, which is up 12% year over year. SAC also posted record third quarter gross profit of $581 million, up 23% year over year. This drove us to achieve record third quarter net income of $87 million for $2.23 per diluted share. During the third quarter, we continued to see strong new vehicle pricing, consistent consumer demand for new vehicles, and sustained growth in our parts and service business. While we experienced lower new vehicle sales volume on a year-over-year basis due to ongoing supply chain constraints and limited vehicle inventory, we also continued to see strong new vehicle GPU and a sustained pre-order bank. Our used vehicle volume was consistent with industry trends year over year, reflecting ongoing affordability concerns as a result of near record high used car prices and a rising interest rate environment. I'm happy to say that since quarter end, though, we have continued to see stability in our overall business despite microeconomic headwinds and concerns around rising interest rates heightened inflation, and ongoing global supply chain constraints. Our financial results reported earlier today demonstrate the fundamental strength of our diversified automotive model, as well as our team's unwavering commitment to creating long-term value for our guests, manufacturer partners, and stockholders. While we remain optimistic about our long-term prospects and growth trajectory, we realize that we are not operating in a vacuum. As I mentioned on our last earnings call, this is not the first time Sonic has had to navigate through adverse economic cycles. Our team is well aware of the current challenges we are all facing and is monitoring our operations daily to adjust for any near-term obstacles related to the overall industry and economic environment while maintaining a long-term strategic view for our business. As such, we remain adamant in maintaining our strong balance sheet position which we consider to be essential in today's world. Our team remains very focused on maintaining high levels of profitability, generating strong cash flows, and collectively managing our cost structure. To this end, we are continuing to take a strategic, measured approach to our expansion plans, both with our franchise dealerships as well as with Echo Park. As we balance our commitment to long-term growth with our current priority to maintain a strong liquidity position in light of uncertain macroeconomic outlook. Turning now to our franchise dealership segment results, third quarter 2022 revenues were $2.8 billion, up 18% from the prior year period. Segment income was $146 million, up 1% year over year. And segment adjusted EBITDA was $198 million, up 10%. from the prior year. On a same-store basis, franchise dealership revenues were up 3% from the prior year, while gross profit was up 5%. Parts and service gross profit increased by 10% year over year, with same-store customer pay gross profit up 12% and same-store warranty gross profit up 7%. Same-store F&I gross profit was down 5% on lower unit sales volume despite an all-time record quarterly franchise dealership segment F&I gross profit per retail unit of $2,473, which was up 7% from prior year. Despite persistent new vehicle demand, sales volumes during the quarter continued to be impacted by ongoing vehicle production constraints. Same-store retail new vehicle unit sales volume was down 6%, even as same-store retail vehicle gross profit per unit was up 28% year-over-year to $6,571. Same-store retail used vehicle unit sales volume was down 12%, while same-store retail used vehicle gross profit per unit was lowered by 9% year-over-year to $1,669. As of September 30th, our franchise dealership segment had approximately 18-day supply of new vehicle inventory unchanged from the second quarter. Production continues to improve slowly while demand for new vehicles remains strong, which continues to drive strong new vehicle GPU. Our franchise dealership segment had approximately 31 days supply of used vehicle inventory, again, unchanged from the second quarter. Given ongoing new vehicle inventory constraints, recent declines in wholesale market pricing, and our current macroeconomic outlook, We continue to be disciplined in managing our used vehicle inventory, volume, and pricing. Now let's turn to Echo Park. For the third quarter of 2022, we reported revenues of $608 million, down 8% from the prior year. Despite this, we reported record third quarter Echo Park gross profit of $49 million, up 88% year over year. Echo Park retail sales volume for the quarter was 15,422 units, down 27% for the prior year, as we continue to focus on executing our strategic adjustment to include five-plus-year-old vehicles in Echo Park inventory. Digging a little deeper here, five-plus-year-old vehicles represented 19% of Echo Park retail used vehicle unit sales volume in the third quarter, which was up from 9% in the second quarter of 2022. And our non-auction sourcing mix grew from 25% in the second quarter to 32% of sales in the third quarter. As we expected from the third quarter, we reported Echo Park segment loss of $29.9 million compared to $34.9 million in the second quarter and $32.9 million in the prior year quarter. Echo Park reported an adjusted EBITDA loss of $21.4 million in the third quarter, an improvement from a loss of $27.9 million in the second quarter, and a loss of $28.5 million in the year-ago period. This sequential improvement from the second quarter demonstrates the benefits of strategic shifts in inventory mix and sourcing that I mentioned earlier. At the end of September, our Echo Park segment had approximately 57-day supply of used vehicles. For Echo Park branded locations though, the day supply was just 40 days, excluding new locations open during the third quarter, positioning us well as we head into the fourth quarter. During the third quarter, we continued to strategically expand Echo Park's distribution network, including a new delivery center opening in Tulsa, Oklahoma, and retail hub opening near Sacramento, California. Including our new location openings during the quarter, the Echo Park brand now reaches over 50% of U.S. population, on its way to 90% of U.S. population by 2025. In addition to growing geographically, we've also continued to expand Echo Park's digital footprint with the continued success of our new e-commerce platform, which was successfully rolled out this past June to 100% of our nationwide traffic at Echopark.com. For the third quarter, omnichannel sales through our new e-commerce platform accounted for 31% of Echopark's retail unit sales volume compared to 19% in the second quarter. Further, 7% of Echopark volume during the quarter was sold end-to-end online as guests continued to utilize our enhanced omnichannel purchase experience with out-of-market buyers representing 60% of our e-commerce sales. We continue to monitor Echo Park's performance and remain confident in this segment's long-term growth prospects once the used vehicle market returns to normalized conditions in due course. In the interim, we continue to take steps to adjust our structure at Echo Park to better align with the current environment and target a return to break even EBITDA in the second quarter of 2023. We are already seeing the benefits of expanding our inventory offering to include five-plus-year-old vehicles, enabling us to reach additional customer segments, improve consumer affordability, and to source more vehicles from non-auction sources, which will improve profitability. We began to see the benefits of these actions this past quarter and expect to see further improvement in Echo Park losses during the remainder of the year. We are still in the early stages of these initiatives. Once we have further visibility on future used vehicle market conditions and the effects of the strategic adjustments we have made at Echo Park, we will provide an updated Echo Park model and guidance. As an update on our share repurchase activity, during the third quarter we bought back approximately 3.1 million shares of the company stock for approximately $151.5 million. Year-to-date, we repurchased 5.2 million shares, representing 13% of shares outstanding as of the end of 2021, for approximately $245 million. As previously reported, in July, Sonic's board of directors increased the company's share repurchase authorization by $500 million. Taking this into account with our recent repurchase activity, this results in a total of $481 million in remaining share repurchase authorization, representing over 25% of Sonic's current market cap. Now turning to our balance sheet, we ended the second quarter with $488 million in available liquidity, including $171 million in cash and full plan deposits on hand. The decrease in liquidity from the end of 2021 was driven primarily by the share repurchase activity I just mentioned. Additionally, I'm pleased to report today that our Board of Directors has approved to increase our quarterly cash dividend to $0.28 per share, payable on January 13, 2023, to all stockholders of record on December 15, 2022. Our strong sales performance, cash flow generation, and balanced capital allocation strategy continues to allow Sonic to return capital to shareholders through its quarterly dividend and share repurchases. In summary, our third quarter results reflect another quarter of record financial performance in spite of growing macroeconomic concerns. Looking forward, we will continue to advance our strategic growth plans for both our Sonic franchise dealerships and our Echo Park business, taking the necessary steps in the short term to maintain our strong balance sheet so we can continue to reach our longer-term goals while still benefiting from the strength of our diversified business models. We remain confident in reaching these goals and look forward to further revenue growth, increased profitability, and generating long-term value for our stockholders. This concludes our opening remarks, and we look forward to answering any questions you may have. Thank you very much.

Thank you. We will now begin the Q&A session. If you would like to ask a question, please press star followed by one on your telephone keypad. If for any reason you would like to remove that question, please press star followed by two. Again, to ask a question, that's star one. As a reminder, if you are using a speakerphone, please remember to pick up your handset before asking your question. We will pause here briefly as questions are registered. Our first question comes from John Murphy with Bank of America Merrill Lynch. John, your line is now open.